NEW$ & VIEW$ (25 SEPTEMBER 2015): Lift-off On! Capitulation On?

Ms. Yellen, setting out to build a case like a prosecutor giving a closing argument, presented a 40-page speech in a cavernous auditorium at the University of Massachusetts in Amherst. (…)

Central to the argument she set out to establish is a belief that slack in the economy has diminished to a point where inflation pressures should start to gradually build in the coming years. Ms. Yellen argued those pressures aren’t asserting themselves yet, because a strong dollar and falling oil and import prices are placing temporary downward pressure on consumer prices. As those headwinds diminish, she predicted, inflation will gradually rise.

The Fed needs to get in front of this, she said, and also prevent speculative forces in financial markets that could lead to “inappropriate risk-taking that might undermine financial stability,” she said in the prepared text of her comments.

“It will likely be appropriate to raise the target range of the federal-funds rate sometime later this year and to continue boosting short-term rates at a gradual pace thereafter as the labor market improves further and inflation moves back to our 2% objective,” Ms. Yellen said. (…)

“She made the case for why rates should start moving up soon. She hadn’t done that yet, and I believe investors will welcome the additional clarity,” said Roberto Perli, an analyst at the research firm Cornerstone Macro. (…)

In her comments Thursday, Ms. Yellen emphasized the domestic economy and sought to look past headwinds from abroad.

“Some slack remains in labor markets, and the effects of this slack and the influence of lower energy prices and past dollar appreciation have been significant factors keeping inflation below our goal,” she said. “But I expect that inflation will return to 2% over the next few years as the temporary factors weighing on inflation wane.”

Ms. Yellen underscored the risks of waiting too long to raise rates, something she touched on in congressional testimony earlier this year but hasn’t drawn out in a speech. (…)

“The more prudent strategy is to begin tightening in a timely fashion and at a gradual pace, adjusting policy as needed in light of incoming data,” she said. (…)

Sales of new, single-family homes rose by 5.7% to a seasonally adjusted annual rate of 552,000, the Commerce Department said Thursday.

The reading was well above economists’ forecast for a rate of 515,000 and comes after July’s reading was revised up to 522,000 from an initially estimated 507,000. (…)

From a year earlier, sales were up 21.6% in August.

Many home builders are reporting steady, year-over-year sales gains in the low double-digit percentages. KB Home on Thursday reported a 19% increase in orders in its fiscal quarter ended Aug. 31 from a year ago. On Monday, Lennar Corp. posted a 10% gain in orders for its quarter ended Aug. 31.

MoM sales increased in three of the four regions of the country. Sales in the Northeast rose 24% MoM but are unchanged YoY. In the West, sales posted a 5.4% rise (10.0% YoY). Sales in the South gained 7.4% and were up 32% YoY. In the Midwest, sales declined 9.1%, down for the third month in the last four and unchanged YoY.

Businesses Curb Spending on Durable GoodsOrders for long-lasting manufactured goods fell in August, in a sign that a strong dollar and economic turmoil overseas may be restraining demand for American-made goods.

New orders for durable goods fell a seasonally adjusted 2% in August from a month earlier, the Commerce Department said Thursday.

August’s decline reflects a slight pullback in business investment in new machinery, electronics and other goods, after two months in which spending rose. New orders for nondefense capital goods excluding aircraft, considered a proxy for business spending on equipment and software, fell by 0.2% in August after posting increases in June and July. That figure has fallen month over month in five out of the past eight months. On a year-over-year basis, it has fallen for seven straight months.

The positive bias here is that non-def ex-aircraft is up at a 14.3% annualized rate in the last 3 months (chart from Doug Short)

The Chicago Federal Reserve reported that its National Activity Index (CFNAI) during August collapsed to -0.41 after jumping to 0.51 in July, revised from 0.34. Ironing out this volatility was the three-month moving average which remained fairly stable near break-even, its best level since January. During the last ten years, there has been a 77% correlation between the Chicago Fed Index and the q/q change in real GDP.

CHINA FACTS

From CEBM Research surveys:

Steel sales in August fell below expectations. Roughly half of respondents reported sales below expectations, while the other half reported that sales volume met expectations. All respondents reported that the overall demand situation remains very weak. Steel producers normally experience a period of strong sales activity September and October. However, respondent feedback indicates the 3-month sales outlook is relatively pessimistic.

In July, cement sales saw a meaningful rebound boosted by infrastructure projects. August survey feedback, however, indicates that cement sales lost momentum. Respondents suggested, however, that projects are limited in number and investment for the unforeseen future. They do not expect to see good sales in September.

Housing sales in August dropped as expected, but decreased more than agents’ originally forecasted. Most agents regarded the sales decrease in July as a seasonal decline, with another factor being that there were fewer listings. These factors persisted in August, and combined with greater financial market instability, willingness to invest in real estate weakened. Another emerging factor affecting the industry environment is changing credit conditions. Bank credit may have been tightened for some potential homebuyers. Some respondents reported tightened bank credit for their customers. Two main reasons are: 1) Strong 1H15 issuance has reduced the available quota for 2H15; 2) rate cuts have reduced banks’ NIM, especially NIMs on mortgage issuance.

The MSCI Emerging Market Currency Index, a broad gauge of emerging-market currencies, has fallen to its lowest level in six years. Mexico’s peso fell to a record low Thursday as Turkey’s lira and South Africa’s rand continued to tread close to their weakest levels on record. (…)

Brazil Braces for More PainThe country’s battered currency touches a new low as unemployment surges and the central bank forecasts a far deeper recession.

(…) Brazil’s central bank lowered its 2015 forecast for a second time Thursday and now predicts the economy will shrink 2.7% this year—the worst contraction in 25 years.

Almost all of the gauges on Brazil’s economic dashboard are heading toward the red. Unemployment rose to 7.6% in August, the eighth consecutive monthly increase. and double the rate from a year ago.The inflation rate is rising toward 10%, cutting into the budgets of the country’s poor. And Brazil’s budget shortfall stands at about 8% of annual economic output—a big reason why Standard & Poor’s cut Brazil’s hard-won investment grade credit rating to junk. (…)

Headline prices, excluding fresh food, were down by 0.1 per cent compared with a year ago in August, as slumping global energy prices outweighed stronger domestic inflation in Japan. (…)

However, core prices excluding food and energy were up by 0.8 per cent on a year ago, a level seldom seen since the 1990s. That suggests the domestic economy is running out of spare capacity, creating pressure for higher prices. (…)

Haruhiko Kuroda, the governor of the BoJ, has taken to highlighting the spread of domestic price rises as a sign his policy is working. “If you look at goods used every day or week like food and household products, the proportion with rising prices was higher after April in particular,” said Mr Kuroda at a recent press conference.

He has continued to insist Japan can reach 2 per cent inflation by the middle of fiscal year 2016 even though most analysts think that goal is now out of reach.

SENTIMENT WATCH

U.S. Equities: KKR gets more positive

(…) We are adding two percent to our U.S. Equity position, lifting our weighting to 22% from 20% and a benchmark of 20%. This increase now takes our overall Global Equity allocation to above benchmark for the first time this year, with a notable overweight to developed markets relative to an underweight in emerging markets. See the following pages for specific details, but we fund this increase in U.S. Equities by reducing the cash balance we elected to build up in January 2015.

From a cyclical perspective, we see negative sentiment, decent – albeit unspectacular – EPS growth, and reasonable valuations as signals to “Lean In” to certain parts of the U.S. market. Probably more important, though, is the positive secular case we now see unfolding for the United States. Indeed, the long-term outlook for the U.S. consumer has improved materially in recent quarters, and we now see more gains ahead, particularly around household formation. Meanwhile, Corporate America is increasingly leveraging its “Made in America” innovation across a variety of sectors, including Healthcare, Technology, and Energy Services, to distance itself from its global peers. Against this constructive macro backdrop, our allocation framework now argues for an increased weighting on both a short-term and long-term basis to the United States. (…)

While we expect there to be plenty of debate around whether to add to U.S. Equities at current valuations, at this point in the cycle, we think that the long-term outlook for the United States has become much less controversial, particularly relative to its global comps. Indeed, at a time when the China Growth Miracle that defined the 2000-2010 period is waning, we see the U.S. gaining increasing stature as an investment destination of choice. (Full KKR report pdf in Bearnobull’s Library)

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